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YJJ Budget 2013 Speech

Madam speaker, I wish to touch on three areas in this year’s budget – SMEs, new industries and preschools.

I wish to declare that I own and operate private companies classified as SMEs. I have previously managed and owned childcare centres though I no longer do so now. Part of my current business supplies products and services to education institutions.

SMEs

SMEs form 99% of business entities in Singapore, employ 70% of all Singaporean workers and contribute 50% to the GDP (1). SMEs are facing great challenges due to higher rents, higher cost of goods and services and a manpower crunch.

DPM Tharman spoke of the pain that companies, particularly SMEs will go through as the economy restructures to one that’s based on higher productivity. Some companies will not survive the restructuring. I’d like to share about the pains of restructuring and some lessons we can learn when an industry restructures. I happened to have been in an industry segment that underwent very severe restructuring and experienced one of the highest rates of company closures.

During Singapore’s dotcom peak, I started a company developing e-learning solutions for education institutions. It could not have been at a worst time. From 1999-2000, there were suddenly some 50 companies in this space, most of them new start-ups fuelled by dotcom investments. Funding very quickly dried up after the NASDAQ crash of April 2000.

But the companies were already formed and operational. The industry demand was much smaller than what these companies had thought it was. These 50 companies fought tooth and nail over the meager market, for customers who were then not yet ready for the services being offered. I witnessed many companies shutting down, merging or being acquired. Companies tried different ways to stay relevant to the market. We too experimented with different business models and products, and had to go through the painful process of chopping off unprofitable business segments and to let go of excess headcount at our darkest hour, just to stay afloat.

Within seven years, the 50 companies were withered to around 10, and I reckon less than 5 had respectable growth and profitability. There are some lessons that I have learnt observing this brutal industry restructuring first hand.

The first lesson is that those that survived had adapted their business processes to merge certain job functions to stay lean. Faced with poor prospects for better revenue, companies had to look internally to keep costs down. Being in a human resource driven knowledge industry, the biggest cost was manpower. Companies had to re-examine business processes to see which job functions could be merged or reinvented to cut costs. Company structures were flattened and employees empowered to do more.

A second and important lesson was that surviving companies had to find new business models to try to create new revenue sources. There is a limit to how much cost one can cut to be more productive. Revenue had to increase and companies had to find these revenue sources. Some companies merged or acquired other smaller players to achieve better economies of scale or used their combined strengths to create new business models.

The government is calling for companies to be more productive to overcome the immediate challenges. What is productivity?

Productivity is output divided by input. Financial output divided by labour input is also known as labour productivity, or value added per worker. Output is commonly measured as revenue less cost of purchased goods and services. (2)

In the context of my restructuring experience, survivors changed business processes to become lean. By reducing labour input while maintaining the same financial output, there will be productivity gains. But more critically, to make quantum leaps in productivity, financial output has to be significantly increased without corresponding increase in workforce. This can be done either by expanding the current market or modifying business models to gain new revenue sources or by merger and acquisition.

I believe these lessons can apply to other industries. For example, in the F&B industry, we have heard feedback about the lack of Singaporeans wanting to work in the industry. In his budget speech, DPM Tharman said that over the past 5 years, the F&B workforce has increased by 31% with Singaporeans actually making up half of the increase. So Singaporeans do enter this industry. Yet we hear of a shortage of manpower. The boss of Jumbo restaurant was pictured in the Straits Times clearing dishes.

DPM Tharman cited F&B as an example of a fragmented industry structure. Could there be too many F&B outlets in this industry chasing the limited customers’ dollar? Is there too much mall and shop spaces allocated for F&B? When an industry consolidates, manpower that is not fully utilized will be redeployed to companies that most urgently need them to cope with the bustling business. Or some companies may have to reinvent their business model or product offerings to generate new revenue streams.

Given Singapore’s limited market size, for meaningful productivity to be sustained through revenue growth, there should also be increased efforts to secure new overseas markets. The role of agencies such as IE Singapore becomes even more important. Singapore firms will need to create strong expertise and brands around products that have high demand in new markets. We have some success in areas such as oil rigs, food, and water technologies. The challenge is for the government to help identify more industry clusters and match that with emerging new markets.

The government has implemented various new schemes to help locals companies. The Productivity and Innovation Credit, or PIC was introduced two years ago. This year we have an interesting Wage Credit Scheme or WCS.

While WCS’s objective is to help companies share the fruits of productivity increases with workers, I believe it is intended to also provide companies with extra cash. Employers generally give increments to retain workers. WCS will run for the next 3 years. The 40% share by the government will be given back to employers only after the end of the year, which will impact the company’s cash flow. This means that employers will be careful not to give wage increases unless they have to and can afford to. Employers will likely be giving regular wage increases as they would generally have done so even without this scheme. Cash strapped companies will still resist wage increases.

Madam, I welcome any scheme that can help local companies cope with the current economic challenges. It will be interesting though to see which companies will benefit from WCS. MNCs, larger companies and more profitable companies have been and will be able to make wage increases. Smaller and struggling SMEs will still not do so. Perhaps the DPM can share what type of companies will likely benefit most from WCS looking at wage data from the past 2 years of CPF records. What is the government’s expectation of SME’s share of the $3.6 billion payout? If in reality, WCS ends up not helping SMEs much, the government will need to find more targeted ways to support them.

PIC is given a new push with the new one-for-one top-up grant of $5,000 per year. It’s a generous payout over and above the earlier PIC payouts. I think that should get many more smaller companies to use PIC as they will get more cash than what they have invested.

The PIC process is relatively easy to administer compared to most other government grant schemes. While PIC is useful to provide some relief to companies, it is limited in effectiveness for some types of companies which really need a major transformation. It is not always automation that will help companies restructure. Sometimes, it requires drastic changes to business processes, organization structures and to business models.

I would like the government to consider additional ways to help companies restructure. One is in the area of M&A.

In fragmented industries where there are too many companies chasing the market, it makes sense to consolidate. Merger and acquisition done strategically could boost revenues or result in greater manpower efficiency. In Budget2010, the government implemented the mergers and acquisitions, or M&A scheme (3). The scheme is hardly attractive as it allows M&A allowance of 5% of the value of acquisition as tax allowance. Budget2012 provided for 200% tax allowance on transaction costs. Transaction costs cover professional fees, legal fees and valuation fees.

These two provisions benefit mainly large transactions. To encourage M&A activities amongst SMEs, we need the scheme to be more targeted. The M&A scheme could be graduated to allow higher allowances for smaller SME consolidation and M&A transactions. For example allowance could be 30% for deal size of $500,000 or below, another
scale at $1 million, and a further lower rate at say $5 million. This would cover the typical deal size for acquisition of smaller SMEs.

The current scheme allows only for outright purchase of shares. Many acquirers prefer to buy over operations and businesses of SMEs, but not the entire company as they do not wish to be entangled with liabilities that may be associated with the target company. We can loosen the definition of M&A to include such type of acquisitions.

We can also incentivise the acquirers to automate the operations of their acquired businesses to achieve greater productivity and to change old business models. We already have the PIC scheme with its schedule of qualifying activities. We can look at allowing even higher than 400% tax allowances for investment in automation and higher than the existing cap of $400,000 in tax allowances for merged business entities to get them to speed up investments for productivity improvements.

New Industries

I am glad the government is constantly looking at new industries to develop as the economic landscape is rapidly changing due to globalization and technological advancement. This is important as Singapore companies continue to seek areas it can fill a niche in.

One area I hope the government can give more attention to is renewable energy. Last Saturday, the Straits Times reported energy scenario projections by Shell. The report projected that total energy demand could double in the next 50 years as the world’s population rises to 9.5 billion. In a high energy demand scenario, Shell predicted a strong push for the development of solar power as an alternative source of energy. By 2070, solar photovoltaic panels could become the world’s largest primary source of energy.

Singapore is constrained by a small land size. We have been told that even if all our rooftops and building surfaces are covered with photovoltaic panels, we could only have up to 14% of our energy needs being met.

I think that should not stop us from aggressively promoting and pursuing renewable energy installation expertise and technologies at a faster pace so that our companies can export their renewable energy products and services to fast developing countries in regions hungry for more energy.

Our public projects can be more aggressive in using renewable energy. The government can actively support local companies to build up their abilities to install such set-ups. Just as we had supported local companies to build up capabilities in water technologies that allowed them to become global players in this field, we can do likewise now in renewable energy.

Preschools and Student Care

The government has planned to more than double its spending to $3 billion for the preschool sector over the next 5 years. It is good that the government is acknowledging the importance of early childhood education and is putting significant investment into it. It is forming the Early Childhood Development Agency to combine the preschool functions of MSF and MOE. This is something that many industry players, experts and observers had been calling for.

The government plans to bring more operators onto the Anchor Operator or AOP scheme. At last year’s national day rally, the Prime Minister had said there will be 2 or 3 more AOPs. There will be an additional 16,000 places by AOPs to add to the existing 17,000 places. (4)

I have previously spoken on this issue and I believe this will drastically alter Singapore’s childcare landscape. It is currently being served by a diverse number of private and non-profit operators, with a good deal of variety and innovation. The AOP scheme was initiated in 2009. It provides AOPs with easy availability of new centres at typically under 10% of prevailing monthly rental cost of private operators, a generous combination of start-up grants which I worked out to be around $600,000 per new centre and grants for teacher training and scholarships. (5)

In return, AOP are expected to charge fees below the industry median. That’s hardly any challenge at all, given that the generous grants and low rents will easily allow them to achieve this without having to be innovative or be cost conscious. The dearth of remaining new sites for non AOPs have seen rents being bided to highly unsustainable levels. This budget has increased salary grants to AOPs. This will accelerate the outflow of teachers from non-AOP centres to AOPs. There are 2 important things necessary for operators to succeed in this industry: Location and Teachers. Non AOPs will be choked off in these two key areas.

While it is good that the government is pumping a lot of money into this sector, the industry is wrongly structured and the huge grants will worsen the situation. There will be negative consequences arising from the current AOP scheme. It will wipe out many existing players, especially operators charging fees that cater to lower and middle income families. The 2 current and 2-3 new AOPs will not have to compete hard to be innovative. A healthy level of competition is needed for operators to be innovative, to continue to offer high quality services at competitively affordable prices. I believe we can instead structure childcare as a public good, with regular competition by all operators for packages of sites at fees regulated by MSF. With the same level of investment the government has planned, I believe it will achieve in better outcomes for affordability, accessibility and quality.

The higher number of working parents has seen fast rising demand for childcare. These same parents will also need good quality and affordable student care facilities. It will be another important area as a social leveler.

I will touch on childcare and student care further in my COS cuts on MSF. Thank you.